Good day, everyone. Welcome to the Grupo Financiero Santander Mexico’s Fourth Quarter 2015 Earnings Conference Call. Today’s call is being recorded, and after the speakers’ remarks, there will be a question-and-answer session. For opening remarks and introductions, I would like to turn the call over to Mr. Hector Chavez, Managing Director, Head of Investor Relations. Please go ahead, sir.

Hector Chavez

Thank you. Good morning, and welcome to our fourth quarter 2015 earnings conference call. We very much appreciate everyone’s participation. By now, everyone should have access to our earnings release and the company’s presentation, which were released this morning before the market opened.

Speaking during today’s call will be Hector Grisi, Executive President and CEO. Also joining us are: Pedro Moreno, Deputy President of Administration and Finance; and Rodrigo Brand, Deputy General Director of Public Affairs and Communications; others whom will be available to answer questions during the Q&A session.

Before we begin our formal remarks, allow me to remind you that certain statements during [indiscernible] the course of our discussion today may constitute forward-looking statements, which are based on management’s current expectations and beliefs and are subject to a number of risks and uncertainties that could cause actual results to differ materially, including factors that may be beyond the company’s control.

For an explanation of these risks, please refer to our filings with the SEC and the Mexican Stock Exchange. Let me turn the call to Hector Grisi. Hector, please go ahead.

Héctor Grisi Checa

Thank you, Hector. Good morning, and welcome to everyone. Thank you for being and joining us for our fourth quarter 2015 earnings call, which is also my debut as the first time as the CEO of Santander Mexico. I’m very delighted to be here. And for the past two months I have received a very warm welcome from everyone here at the Bank. And in joining, I will immerse myself in a global assessment of Santander Mexico’s operation and highlighting key elements of the strategy and the implementation.

While still working through this process, let me share some of the initial observations that I have had.

Our brands and franchises are quite strong, leading market shares in the core markets such as SMEs, middle market, and mortgages. We also hold a solid position in the high margin consumer loans and credit cards. This is underscored by Mexico’s growing economy and favorable demographics.

To achieve our strategic goal of being the market leader in profitability and growth in Mexico, we recognize that operational transformation is necessary. Santander Mexico has identified its key challenges in the retail market, and we are already working to attract new clients and improve our customer loyalty.

Our goal is to be our customers’ primary bank. And for this, we need to become a client-centric franchise. That’s something I’ll be working throughout the year and through the years to come. There is also room for improvement in growing our loyalty in retail deposits, that’s basic. We need to close our market share gap in this segment to draw our cost of funding. I mean, we have an important gap of clients, let’s talk about, I mean, more augmentable [ph] clients that we need to bring now to the bank.

To achieve this, we are upgrading our technology platform. This includes enhancing our online and mobile channels to offer better customer service and attract the growing young middle class, who increasingly require mobility. We also are focusing on talent, quality, and processes to improve the customer experience while positioning our brand and products at top of mind.

Remaining innovative is particularly most important as competition has increased. But we will continue to execute on this course, I will also make time to review our operations to assess, for we need to do some adjustments. Like all the banks, we face the fact that globally capital is scarce, an increasingly costly resource.

In the context, my mandate is clear: We need to book profitability and make more efficient use of our capital as we grow. This requires a critical assessment on how we are managing our risk-weighted assets and capital allocation. That’s a very important point that we will be working throughout the year.

As most of you are aware, my background is in investment and corporate banking. At Santander Mexico, we are uniquely positioned to better realize the strong potential that this business has, given our size and experience. While we have a solid product finance operation, we can do more to strengthen our investment banking business lines, creating additional synergies with our retail operation.

I’m really excited by the opportunities ahead and confident that the operational transformation of our retail and corporate franchise will ensure we achieve profitable, sustainable growth for the customers and shareholders. We will keep you updated and expect to provide more details of our plan on our next earnings call. You can be assured that the Board of Directors, the management team, and all of our staff are fully committed to ensuring profitable and sustainable growth of Santander Mexico.

In a moment, Pedro will run through the detail of our quarterly performance, but first I would like to make some remarks. Our [Technical Difficulty] deposit growth, although we are still below our long-term [Technical Difficulty] up above-market loan growth, up 18% year-on-year and achieved even a stronger performance in the consumer loans, a clear reflection of the strength of our franchise and leading market position.

Despite the higher effective tax rate, ROAE improved to 12.9% from a low of 12% at the beginning of our year. However, we recognize this is still below our desired levels. I’m fully committed to maintaining our focus regarding profitability and will be providing more details on my plans in the coming months.

With that, let me turn the call over to Pedro to take you through the quarterly results. And I will then discuss our guidance afterwards, and we will both be happy to respond to your questions. Thank you very much.

Pedro José Moreno Cantalejo

Thank you, Hector. Good morning and good afternoon to those in Europe. Let me start first with a brief review of market trends.

System loan and deposit growth saw a slight deceleration as of November, growing year-on-year by 13.3% and 12.3% respectively, according to the most recently available public data. This was mainly driven by weaker government and commercial loans. Consumer loans, excluding credit cards, did quite well, up 16.3%, while credit cards saw the first signs of pickup. Over the past few months, we have observed higher competition in pricing, particularly in SMEs and middle-market segment, while some competitors are becoming more active in certain segments.

Against this backdrop, Santander Mexico delivered a strong loan expansion, again beating system performance with total loans up 18% year-on-year and 4% sequentially. We are pleased to report this was above our guidance range of 13% to 15% growth. While all segments contributed to this performance, the main driver was retail, which rose 20% year-on-year.

Our individual loan portfolio continued to perform very well, growing 16% year-on-year with total products growing well above system rates. Overall, we have captured 21% of overall system growth in consumer loans, including credit cards, and 22% of system growth in mortgages.

Consumer loans, including credit cards grows an impressive 21.2%, exceeding our 12% to 15% guidance range and contributing to a more profitable loan book mix. Credit cards continued to saw a gradual acceleration, up 5% sequentially and 13% year-on-year, more than triple system growth, and gaining 100 basis points in market share due to promotions and commercial campaigns while maintaining, which is very important, the credit quality established.

This has allowed us to add almost 200,000 new credit cards to reach around 2.9 million cards, a strong result, given the market as a whole has contracted by around half-a-million cards during this year. Also note that the average spending from credit cards has exceeded market levels, reflecting a strong preference for our products.

Mortgages are still growing, up a strong 13%, above our 10% to 12% guidance. This reflects the benefits from more effective customer on-boarding processes, our broad product offering, and our position as Mexico’s leading mortgages originator.

On the other hand, commercial loans rose 80% year-on-year, with a solid performance in all segments. Following system trends, this was a slight deceleration from the 21% year-on-year growth achieved in the previous quarter, reflecting weaker corporate and governmental loans.

SME loans were up 22% year-on-year, a very good performance and in the lower end of our guidance range of 22% to 25%. This mainly reflects a more cautious approach towards credit by our clients in the face of potential interest rate increases, as well as stronger competition in this quarter.

In this context, we have introduced products with interest rate caps and continue developing our expanded client target base. Middle-market loans remained fairly strong, while corporate and governmental loans are also performing well, while reflecting the natural volatility of this segment.

Moving on to funding, retail [ph] demand deposits were especially strong, growing by 18% year-on-year. Our strategy to drive deposit growth throughout SME, midmarket, affluent, and payroll clients saw a 12% year-on-year increase in deposits. Again, we delivered on our guidance, reaching the high end of our expectations from 10% to 12% increase.

Moving to liquidity, our liquidity coverage ratio stood at 107.45%, well above the regulatory requirement. The issuance last December of a three-year, Ps.3 billion senior note at a very attractive rate contributed to our liquidity position. Capitalization also remains strong, at 15.6%, as we implemented efficiency measures which allowed us to offset the impact from the recent changes in regulatory capital requirements in Mexico that we already anticipated in the previous earnings call.

Moving on to the P&L, net interest income remained a strong, increasing 16.7% year-on-year and accelerating sequentially 5.7%. The loan portfolio, excluding credit cards, was a key driver of this result. We had 19.3% year-on-year increase in net interest income, while credit cards only saw a 2.3% increase, reflecting a higher share of customers that pay their balances in full, instead of revolving [ph].

The rebalancing of investment, as measured in our securities portfolio total at the end of the third quarter, contributed with a 33.9% increase in interest income. Note that this significant increase resulted from the purchase of a sizable securities portfolio.

Net interest margin for the quarter remained relatively stable, and increased to 4.89%, also supported by a lower cost deposit base. Commissions and fees rose 12.3% year-on-year, driven mainly by cash management and credit cards. The 80% increase in credit card fees reflects higher card use around with lower rewards and placement costs.

Insurance fees, the main contributor to net commissions and fees rose by only 4%. This was mainly related to the regulatory restrictions to [indiscernible] sales, as well as weaker SME demand of payer-related insurances. Investment banking fees fell, reflecting more volatile market conditions. As Hector just mentioned, this is an area that should also benefit as we move toward furthering our investment banking operations.

Commissions and fees for the full year increased 10.1% as a result of this. Gross operating income rose 14.7% year-on-year, despite the 12% decline in market-related revenue, this is important to mention. Note that market-related revenues represent only 2% of our gross operating income this quarter, reflecting the current volatility, while under more stable market conditions, this would represent, as it used to be between 5% to 10% of gross operating income.

Again, we expect improvement in this area as we progress with strengthening our investment banking operations. In terms of asset quality, cost of risk remained relatively stable at 3.4% and in the bottom range of our expectations of 3.4% to 3.6% for this year.

Loan-loss reserves rose 32.7% year-on-year, mainly reflecting the significant volume growth across all segments, particularly credit cards and other consumer loans, which require a higher level of provisioning. The increase also reflects difficult year-on-year comparisons, as 4Q 2014 benefited from the reversal of provisions following the restructuring of certain [ph] loans in the previous quarter. This quarter maintained a conservative approach. We made some provisions in connection with certain corporates that are in - was risk.

On a sequential basis, however, loan-loss reserves sold at 3.7% to debt. The non-performing loan ratio improved to 3.33%, mainly as a result of improvements in commercial loans related to the home dealers, as one of them capitalized Ps.540 million of unsecured loans, and we are recognizing the charge-off of that.

Moving on to costs, our promotional expenses for the quarter rose 6.2% year-on-year and remained stable sequentially, while costs for the year increased by 7.7%. Let me highlight, of excluding IPAB cost increased by 6.7%, in the midrange of our guidance of 6% to 8% growth. Remember that our cost guidance excludes IPAB. Excluding IPAB, efficiency for the quarter dropped below 40%, reaching 39.5%. The efficiency ratio for the full year was 42%, improving 100 basis points year-on-year and 190 basis points sequentially.

Looking at full-year results, pre-tax income rose 5.1%, meeting our revised guidance of 5% to 10% increase. Our tax management is certainly allows for the reduction in the impact of the rate normalization. Our effective tax rate for the year of 22.5% was slightly below our guidance range of 23% to 25% and 330 basis points higher than 2014. Return on average equity is stood at 12.9%, down 110 basis points year-on-year, and improved 80 basis points sequentially.

Recapping on our performance, we are pleased to report that we met for our guidance for the year. Now, before opening the floor for Q&A, let me turn the call to Hector Grisi, who will discuss the guidance for next year.

Héctor Grisi Checa

Thank you, Pedro. Moving to our guidance, we expect softer loan growth for this year, between 10% to 12%. While we anticipate relatively stable GDP growth, we are also expecting high interest rates, recalling prices and currency volatility. These factors, together with a more complex global environment, could sharpen loan demand for the commercial segment.

As competition intensifies, we continue to maintain a disciplined focus on profitability. And as Pedro just mentioned, we are seeing a stronger competition in pricing, particularly in SMEs and the middle market, as well as more active competitors in both markets. [Technical Difficulty] loans, we don’t foresee any real changes in the competitive environment, so we remain cautiously optimistic with respect to the recovery in the consumer confidence, given persistent foreign exchange volatility and its potential impact on the inflation.

Deposits are expected to grow between 10% to 12% during the year. And in terms of asset quality, we expect to maintain a stable risk appetite, with the cost of risk between 3.3% and 3.5% for the year. While we expect NPLs to grow, we anticipate cost of risk to remain stable, reflecting a more conservative regulatory position requirements. Operating expenses are anticipated to increase between 6% to 8%, and that’s our discipline focus on cost management is expected to offset high depreciation from the investments in technology and processes.

Note, this does not include the deposit insurance fee over the past, and the reversal from the employee profit sharing EPS future payments. We also expect pre-tax earnings to increase between 8% to 12%, up from 5% growth achieved this year, as we remain focused on growing our gross operating income. Finally, our effective tax rate is anticipated to range between 25% to 26% in the year ahead as we continue to approach a normalized effective tax rate of 27% to 28%. Overall, while we maintain our cautious approach and in the terms of loans volumes we expect to deliver an improved performance in 2016.

While not at desired levels, we are fully committed to achieving the full potential of our franchise. We are now ready to take questions. Please, operator, go ahead.

Hi, good morning. Thanks for the call. A couple questions; just first, I didn’t see any guidance in terms of expectations for net interest margin, so you can give us - maybe some guidance there would be helpful.

Also second question, your guidance for pre-tax earnings growth this year is 8% to 12%, with a slightly higher tax rate. So that would mean, at best, profitability remains stable. When do you think profitability can begin to improve? I know there was improvement this quarter, but just do you think - on a full-year basis the decline, so given the guidance it would imply, as I mentioned, relatively stable. So when do you think on a full-year basis you can see sustainably higher ROE? Thank you.

Thank you.

Héctor Grisi Checa

Thank you. I mean, on the first question I will ask Pedro to give you a little bit of an idea of things, color of interest margin. On the previous roles, I can tell you little bit about it.

Pedro José Moreno Cantalejo

Well, net interest margins will be improving around 28 basis points this year. We have a good loan book starting the year that we have been building along the last quarters. The mix of consumer loans and credit cards is improving. And we expect, even though the competition as I said in the script, can be affecting the spreads. We think we can compensate that with volumes. So we anticipate a good performance in net interest margin. The second question…

Héctor Grisi Checa

Is we are talking about the pre-tax growth.

Pedro José Moreno Cantalejo

10% to 12% and you were asking also, what about our ROE? Let me give you an idea of what we see. First of all, I mean, the environment is not easy, as you can see. Competition has increased quite a lot. And we want to be cautious in the way we project what we plan to do. Even though, as we discussed, we don’t - we acknowledge that we have a really strong platform. I think we need to be cautious in the way we manage the loan book portfolio, and how we manage the consumer part of the business as well.

I mean, talking about the loan [ph] portfolio growing to 10% to 12%, I think is the right approach for the year. And also the growth in deposits that has that it was going to be 10% to 12%.

If - and we’re talking about commission and fees that could be another part that could help us to increase that. But given that the market is start soften everything I would like to be conservative in that side. But there are some opportunities and market are basically there. I think we can achieve much more things on the better banking side that will help us in the commissions and fees that would help us also push a little bit profitability. But at this point, I would like to be cautious about how we manage that, okay?

In terms of the ROE, as you were asking, I mean, I think we acknowledge that delivering higher levels of profitability would present a really tough challenge. We’re working on that. I think that technology will help us a little bit on that side. And also, if we increase our deposit base, as we were discussing at the beginning, we would - it will help us on the profitability side and the ROE.

So we’re going to concentrate on that. Right now, we’d like to speak to the guidance but we’ll look forward to give you a better performance as the year basically goes through.

Tito Labarta

Great. Thank you very much.

Operator

And we’ll go next to Carlos Macedo with Goldman Sachs.

Carlos Macedo

Good morning, gentlemen. Thanks for taking questions. First question, you talked about loan growth and how competition is intensifying, and loan growth will decelerate, I mean…

Hector Chavez

Carlos, could you speak more loudly? We cannot hear you. I’m sorry.

Carlos Macedo

I’m sorry. Can you hear me now?

Hector Chavez

Yes, it’s much better.

Carlos Macedo

Okay. Sorry. Thanks for taking questions. So you talk about loan growth and decelerating to 10% to 12%. I mean, we see the economy in Mexico gain a little bit stronger, consumer confidence indicators being up. Despite competition, do you think there’s a chance that you can outshoot that number that it can be a little bit stronger in that, given the fundamentals of Mexico? Or…

Okay. So, again, is there a chance that you are under shooting that number a little bit, that with the economy coming back up, the consumer being strong in Mexico, you could see stronger growth there, even if the corporate side doesn’t contribute in? And can you also give us a breakdown of what you expect growth to be in different lines, since you said that corporate will probably drag down overall growth?

Héctor Grisi Checa

Thank you, Carlos. I will answer the first part of the question, and then I will ask Pedro to give you a better answer on the second part.

I mean, at the beginning, I believe this, I mean, if you’re projecting a market that is kind of growing, like 10% in Mexico this year, I mean, that’s where we’re - well, I mean, we’re always telling you that we’re growing higher than the market. And I think 10% to 12%, I think is the right thing, as the markets grows at that pace.

Also, you need to be, I mean, we need to take the careful approach in the way we’re managing the portfolios in that end. If the market grows a little bit more, I’m sure that we can deliver a better growth. But, right now, this is what we’re seeing, and we would like to keep up this number. Both as - as you were saying, I mean, if the market is better we could deliver better numbers. In terms of the second part of the question, I will ask Pedro to help me out.

Pedro José Moreno Cantalejo

Yes, we didn’t split out the different segment because we think all of them will perform pretty similar. We try to open individuals and corporates and the result is that - the conclusion is, we think individuals will also between 10% to 12%.

Probably, credit cards less than that, and consumer loans a bit ahead, and mortgages in the same range. And in commercial, happens almost the same. SMEs we will - more than that and corporates less. So the overall will be - or all the corporates around this fever [ph]. It’s very difficult in these times of uncertainty, volatility, unpredictable, some variables - economic variables for next year to be more precise.

It’s our best estimate, and what I can tell you is that this growth we’re guiding here means markets are varying for sometime in Mexico.

Carlos Macedo

Okay. Thank you. Thank you, Pedro. Thank you, gentlemen, for being precise. Just a follow-up question then; in the past, you’ve taken opportunities to buy portfolios from other players in the market. Do you think that will be a possibility that during the year, so that it can boost your growth and strengthen your - given the amount of capital that you hold, that’s pretty comfortable?

Héctor Grisi Checa

I mean, yes, Carlos, maybe we will take a look at every single opportunity. The idea is that this reflection seems to make sense. They need to be accretive in the way that - and they need to basically cover our cost of capital in the projections we make. So we will take a look at every opportunity. And if they make sense, then we’ll go for it.

Carlos Macedo

Okay. Great. Thank you. Thank you, gentlemen.

Operator

We’ll go next to Saul Martinez with JPMorgan.

Saul Martinez

Hi, good morning, guys. I also have a question on the 8% to 12% earnings guidance. In fact, I have two questions. One is sort of a broader question about the logic. Second one is specific about the numbers.

And first question - and forgive me if this comes across as a little bit aggressive in terms of the questioning. But I think it’s fair to say that the market has been disappointed in terms of your delivery. Your earnings power on a pre-tax basis is less today than what it was at the IPO. On the third-quarter call, you talked about an aspirational ROE of 18%. The Santander conference in the Investor Day in September, you talked about 16%.

Your earnings guidance implies something like a 12% to 13% ROE in 2016, which means 2017 and 2018 have to be pretty fabulous years to get even close to that.

What’s changed since 3Q? On the 3Q call, you talked about run rates for provisions getting better. And I appreciate that there is uncertainty about the macro - in terms of the macro dynamics, fiscal side, oil prices, currency, confidence; but things are not that bad in Mexico in terms of the credit dynamics. So what’s the logic behind this guidance, which seems fairly conservative?

Secondly, and a related question is, how do you get to 8% to 12%? 10% to 12% loan growth, you just mentioned NIM is probably a resilient or expanding. You said fees could help. Costs are growing below top line, it seems like. Trading was low in 2015, doesn’t seem like that’s a headwind. How is that consistent with 8% to 12%? I’m not sure, I’m squaring away the numbers to get to that. Because it seems like revenues are growing faster than expenses, and revenues even if you believe at 10% to 12% credit growth, which is a deceleration, seems like your revenues are growing faster than double digits with single-digit - mid- to high-single-digit cost growth. So how does that translate into an 8% to 12% pre-tax earnings growth?

Héctor Grisi Checa

Okay, Saul. Very good question. Let me give you an approach under what’s in here, when all these projections were made. And this is not in any way an excuse or anything like that. But let me give you my point of view to how do we see things, and how do we will try to achieve that profitability on the ROEs that would - the bank has committed to do in the past. I mean, first of all, I think that we need to do some things in the way we manage the business in order to give ourselves a platform that we desire in order to deliver those things.

I mean, first of all, as I was saying during the presentations, we need to work really hard on deposits, on the deposit base. We increase our deposit base and get new clients to the Bank, where we will increase the margins. Even that, I mean, if you compare ourselves to our competitors, we have a particular situation that we don’t have as much deposits as they do, and that’s basically hurting us in the net margin that we have. Okay? That’s an important point that we need to work out for the [indiscernible].

Second of all, we are investing a huge amount of money on technology to try to have better costs, and have better information, and basically focus ourselves and what we need to do. And that will enable us to basically - I mean, there is two - I mean, increase loyalty with the clients. I mean, right now, we are in a franchise that we have a very good client rate. But we need to be number one in terms of - number one to our clients. Sometimes in these particular situations, we are number two or number three, so we need to change that mix and to return ourselves into [Technical Difficulty]

Okay? In all of that, at the same time, we need to deliver also on the way to increase the credit portfolio at the pace we have been doing. We have been - as you have seen, the most aggressive in terms of loan growth in the year, with I mean, 17%, 18% growth. I mean, to continue to do that also basically comes along - I mean, provisions. And that has been a particular situation that has not been very stable.

And we will be working on that to try to have more stable parts of the provisions that I believe is something that I’m going to be working together with the team to - and we have also in the past year. We have been more stable in terms of provisions, but we are now trying to be much more stable in that side, and not come out with surprises. I think that with that combination, I think we are going to be able to bring that to deliver you more stable numbers, more stable earnings, and basically drive the growth in that sense. But we need to do a lot of work in order to get to that. Okay?

If you see the guidance we’re giving you a little bit of conservative, is what - we believe right now with the market the way it is that we can deliver something. And that’s something that when I see was - my way of management, I never - I mean, against over-promising. So I’m going to try to be very conservative in the way, and I would like to deliver on the numbers we give.

Saul Martinez

Okay.

Héctor Grisi Checa

So in that sense, I understand. We need to work a lot, but we’re going to be concentrating on the things that we understand we need to do in order to achieve that, okay?

On the part of the numbers, I will let Pedro to basically give you a little bit more of the details on the 8% to 12%. Because what I was - we’re focused was not to 8% to 12% - was 10% to 12% growth in the portfolio. 12% growth in the portfolio is I mean, two points over what the market is going to grow. And as I was saying before to Carlos, if the market grows a little bit more, I think we have the possibility to grow a little bit more. Okay? But we don’t want to go overboard and then get into trouble afterwards.

Pedro José Moreno Cantalejo

I don’t know if you have another comment? But…

Héctor Grisi Checa

So, I hope I really answered your question. But I’m trying to be as clear as I can.

Saul Martinez

Okay, that’s helpful. But, I guess, on the numbers, what - I guess, how do I square away the operating numbers in guidance with 8% to 12%? And I get what you’re saying, and I think at the end of the day, Hector, changing - investing in technology, changing operational transformation is more important than whether you make X ROE this year or next year. But I think you guys also have a problem with communicating to the investment community, right or wrong, in terms of delivery and in terms of financial performance.

And when the expectation is communicated in an optimistic way, as it was in 3Q - and that was the interpretation of the market, and then the guidance comes out very disappointing relative to market expectations, it doesn’t necessarily - it very much reinforces that view that the communications with the Street is not where it should be?

But I guess my question on that, though, when I look at the specifics of the guidance, 10% to 12% loan growth, NIMs are not falling, your cost of risk is stable, according to your guidance. Your costs are growing well below your revenues, you’re trading is not going to fall, it’s hard to get to 8% to 12% pre-tax earnings growth. So I don’t know if it’s excessive conservatism, or if there’s something that I’m missing in terms of the numbers that translate into 8% to 12%. Because if input those numbers into my model, I get something higher. So I just - I’m actually curious to know if there’s something that’s very clear that I’m missing in terms of the guidance figures.

Héctor Grisi Checa

So also - and I’m doing a preliminary-study [ph] I’m pretty open and I’m very pretty now. And first of all of what you said, I mean I’m aware of the situation, and but I mean, we try to play a different game over here. We’re going to try to be very clear and very open with you in what we believe and we believe this is going to happen. At this point, 10% to 12% growth is what we see that is a right approach to do, I think giving you a much - let’s say, happy numbers, I think is not going accomplish in anyway, given the way we look at the market at this point.

Second thing is in terms of profitability, I think there is one big question mark, that is fees and commissions. Okay? And fees and commissions, you guys - I think I have - I mean I think we have a really nice platform, which we’ve got to grow that business, and do some investment banking capabilities to grow a little bit more. And still I’m basically not comfortable that the market is there, I don’t think that we can give you a guidance in that sense that would make me comfortable in that. So what I’ll do is - we’ll be working on that. But we are rather basically no talk, but we’ll deliver on things.

Saul Martinez

Okay. No, that’s helpful, and I appreciate the sincerity in the response. I’ll stop there. I don’t want to hog all of the time. Thank you very much.

Héctor Grisi Checa

Great. Thank you.

Operator

We go next Marcelo Telles with Credit Suisse.

Marcelo Telles

Hi, good morning, gentlemen. Congratulations on the results. I have a follow-up on Saul’s question. I mean, I agree with him, it’s very hard to get to the pre-tax number. And a quick math that I did is if you just annualize the pre-tax profit of the fourth quarter, just by the carry effect, you would already get to a 19% growth in pre-tax earnings. Of course, I know the OpEx is going to increase in the first quarter, right, as you do.

Maybe provisions could be a little bit higher. But even if you try to describe that into the numbers, we can certainly see at least a carry of 9% growth in pre-tax in 2016, versus the - which would be within the 8% to 12%. But it’s just a carry effect, without any of the growth that you are expecting on loans, and so on. So I think it was - it seems to me this, despite that fact that maybe fees could be more on the conservative side, it seems to me that this is highly conservative. So I just want to put some numbers into the discussion here, that was properly initiated by Saul. So this was more a statement in a question.

But I have a question regarding your use of capital and your growth strategy. How do you see the growth - the opportunity for inorganic growth in your business? If an opportunity presents, is it something that - how important is the capital situation, let’s say, of the parent company, in that regard? And if any opportunity comes up, if you would [indiscernible] issue shares, of course - and if the deal makes sense to pursue on a position. We know, for instance, HSBC might be sold at some point. How should I think about Santander Mexico in that regard? Thank you.

Héctor Grisi Checa

Thank you, Marcelo. And your first statement, I fully am aware, and we are working through that. And we’ll - I mean, I know we’re saying the total. I mean, we’re trying to be conservative, but the idea would be basically not to overpromise and deliver on the numbers.

On the second side, Marcelo, on the strategic question, what I can tell you in that sense is that we will take it, we will take a look at every single opportunity. I think that the bank given its position and given its place on the market needs to take a look at every opportunity. What I can tell you in that sense, first of all - and I cannot disclose about the parent company. I can disclose to you about what do - what can we do in Mexico, and also what my mandate is in that sense.

First of all, we will take a look at every opportunity. As I said, we would - it has to be a transaction that it covers our cost of capital. This is a very important point, okay? Our cost of capital, as you know it, is around 12%. Second of all, the transaction needs to be accretive after the first three years, okay. It has to be in that sense.

And also, it has to be a transaction that makes sense, and is a good fit for our operation, okay? I wouldn’t like to get into the details about any opportunity precisely, because I cannot do it at this point. As you know, there is nothing on the market yet. But, as I said, it’s important for the management here that we need to really review this opportunity.

On the second part, in terms of how we’ll finance it. I mean, I think that, that’s something we need to take a discussion. As you saw, I mean the parent company did a very disciplined-approach for HSBC in Brazil, and at the end basically decided not to increase their offer. So we’re going to be very disciplined in the way we do things. That’s as much as I can tell you in that sense.

Marcelo Telles

Okay, that’s very helpful, Hector. Thank you so much.

Héctor Grisi Checa

Thank you, Marcelo.

Operator

We’ll go next to Thiago Batista with Itau BBA.

Thiago Batista

Yeah. Hi, guys. Thanks for the opportunity. So we - a kind of follow-up on Saul question, but focused on the cost of risk guidance. In 2015, your guidance - sorry, the guidance for loan, for the expenses suggest that the cost of risk would be flattish in 2016. And in 2015 you faced many, let’s say, almost one-off events with the Pemex suppliers, with some of specific corporations.

So, looking it for 2016, what will be the segments or the portfolios that represent a contraction in the - on some of your expenses, assuming that those issues with Pemex suppliers, and also with the some specific corporates will not happen again?

Héctor Grisi Checa

Well, yes, you’re right. We are expecting to keep flat the cost of risk. But this implicit an improvement in the quality of the different segments, because as we said before, there are expected a few changes - there will have to be changes in the CMBD roles for provisions this year. I will come to the light in April. We are still no certain of how big can be the impact. But for sure it will be negative for all the system, no positive.

And what we are assuming here is that we will be able to compensate and offset with quality improvement - greater quality improvement in the businesses, this additional - these are requirements.

We will have - as you know a few events. We have already identified the companies that can have some provisions; nothing worrying us; very assumable; not as it was in the past for homebuilder, something like that. But this is the reason why we are expecting a flat behavior. Hopefully, the cost of risk will be flat, and nonperforming loans will be improving right away.

Thiago Batista

Okay. Thank you.

Operator

And we’ll go next to Victor Galliano with Barclays.

Victor Galliano

Hi, thank you. Yes, just a quick follow-up here on credit quality. I mean one of the things that we noted there was the credit card NPLs going up. And obviously, you’ve been talking about that and how you’re growing in that area.

How do you see that going forward, given that the market seems to be shrinking for credit cards or was in 2015? Are you going to continue to be aggressive here or are you going to be a bit more cautious in terms of your credit card origination? And also, can you give us a little bit more color on the increase in competition that you spoke about? Thank you.

Héctor Grisi Checa

Let me start with the first one. Then I’ll ask Pedro to cover something on the credit card side.

First of all, I mean, the competition is basically coming back very strong. As you can see, I mean, from the results from our competitors I think that these guys have done a very good job, basically in growing the business. And we see the competition basically strengthening quite a lot on the individual side as well. I mean on the consumer side, you see a lot of new comers to the market coming into that segment.

I mean, consumers loans, individual loans that we have, I mean, people coming to the market with very nice offers. So right now what we need to do is basically, as I was telling this, bring new clients to the bank and explore that there [indiscernible].

On the order segments, basically on the corporate side and everything, as you can see its spreads, even with a market like this continue to compress. And every single transaction that we work on the commercial side, basically you have two or three banks quoting at the same time.

And as you can see the system in Mexico is very well capitalized, so corporates over parts of the world and people are deploying capital and that is [indiscernible]. So we’re going to continue to see a strong growth in competition over the next few years. And we don’t see basically some of these other banks basically taking a more conservative approach in terms of the loan portfolio.

On the credit card side, Pedro, I don’t know if you can comment.

Pedro José Moreno Cantalejo

Yes, well, you’re right. We have a pick-up in the nonperforming loan, specifically for credit cards. It happened in the month of December. It’s not something that’s structural, something that [indiscernible] will serve due to a calendar of the maturity of some credit cards that affected the chart-jobs [ph] of this month. But in January this will be again back to the normal trend, so nothing to worry about.

And concerning our approach for next year, marketing credit cards and we expect to continue with our practices and we will issue credit cards. We will be [indiscernible] in this market, keeping our credit quality standards. And we expect again to beat the market by far. We’ll still continue with focus, important focus on this year.

Victor Galliano

Okay. Thank you.

Operator

And we’ll go next to Jason Mollin with Scotiabank.

Jason Mollin

Hi, thank you very much. Hector, you mentioned more than once large investments in technology. Can you quantify what the bank plans to invest in 2016 versus what the bank invested in 2015?

And maybe, Pedro, you can comment on the investments made since the IPO. The Bank did a pretty large branch expansion. What has been the experience and return on these investments and how do you view the infrastructure today and where you stand? Thanks.

Héctor Grisi Checa

Sure, I mean, in 2016 we’re planning to invest overall Ps.1.8 billion in technology. Okay. And we did number of those around Ps.1.5 billion in 2015.

Pedro José Moreno Cantalejo

Similar.

Héctor Grisi Checa

So it’s similar numbers, and it’s a quite hefty investment and we’re really concentrated on that and to deploying a lot what we’re doing. You’re going to see that the bank basically is going to take probably 18 months more to basically be where we wanted to be in terms of technology.

Pedro José Moreno Cantalejo

Yes, we have started last year an aggressive investment plan for IT. This feels an incremental on our business as usual expenditure on IT and processes. And we realize we have to catch up on state-of-the-art of competitors. We are excited because many years now we decided to go for it. I can assure you that the next 12 to 18 months, we will reach to a very, very competitive cash management platform for internet banking, for mobile banking. And this will help a lot in our processingality purposes.

Getting back to the originals of the network expansion, Jason, I can tell you that we are very proud of how these investments are performing. We are reaching our far optimistic estimate of payback from breakeven for the branches. They are very positive, contributing already in our objective of growing in deposits, especially in demand deposits.

Productivity of these new branches are in the top of the network, so we did also an important job in terms of recruiting people. And I can tell you after this that it was hard probably to understand, it was just after the ideal, we decided to invest a lot and to start the transformation of the bank. I can tell you that now we are already taking the results.

And I’m very proud to say that, excluding the core main bank - which is not really a cost, it’s a tax - excluding that, our real operating expenses are already in an efficiency ratio below 40% - 39.5% and going down. So we will continue managing carefully the expenses, but we have as keeping the investments needed in technology and process.

Jason Mollin

Thank you very much.

Operator

I’ll go next to Carlos Gomez with HSBC.

Carlos Gomez

Hi, good morning, and congratulations on the results. Two questions, the first one on capital, your level of Tier 1 capital 12.1%. Given that you want to be conservative, is that a level that you think is appropriate, excessive? Could you run the bank with less, could you maintain it like this?

This whole business about your tax rate, in the past, the company has been quite successful at finding ways to reduce your effective tax rate. You are actually taking advantage of that, is clear today. Have you found in the markets new opportunities to expand your low tax rate farther? Or should we expect it to normalize, as commented earlier, I believe, in 2017? Thank you.

Héctor Grisi Checa

Well, the first question in terms of capital, we feel comfortable with the actual 12.1%, Tier 1. It is special important because assignments in the last quarter earnings call, in the month of October, there was a change - there were really change that it’s affecting all the banking system in Mexico is related to CBA and counter-party [ph] risk for derivatives provisions that has to be made at the level of capital.

In our case, this was an impact of 61 basis points. We were able to manage in order to create optimization in the rest of our capital consumption lines to compensate this. And that’s why we are very proud of this 12.1%, which is well ahead of the minimum regulatory cover. And also with the Subordinate-Wealth [ph] that contributes with another 100 basis points [indiscernible].

And we feel very comfortable to grow. Of course, next year, there will be new changes in regulations that will also affect the capital. There will be offers and there will be some additional rules that will affect us. And nevertheless, our expectations for year-end in capital ratio will be very close again to 15%, so we feel very comfortable there.

Carlos Gomez

Sorry, if I can ask you to expand a little bit more. So you have new rules, you may have more consumption of capital. At the same time, do you expect any positive changes in terms of application of internal models, rules that reduce risk-weightings on some particular lines? I mean, will the net regulatory change next year be a negative or a positive for you?

Pedro José Moreno Cantalejo

Well, in our case, we expect to be neutral. We are managing the strategies to compensate the impact. And in my budget we will be able to compensate the term measures on optimization of our consumption to neutralize these impacts. That’s why we will remain at the level of 15% despite growing the risk-weighted assets. This is way the assets will be growing around 10% in our calculations.

Carlos Gomez

Thank you. And on the taxes?

Pedro José Moreno Cantalejo

And in taxes, well, we are very active in managing taxes. We are not passive here. We always are looking for possibly piece of optimization. I always say that one point of saving in the tax rate is equal to many, many mortgages and many, many consumer loans. So we work very hard with that. This year, we have been successful, even though we are very close to the guidance we gave you, as we need, I think - we find out a few ways to reduce the effective tax rate. And we continue to do that, this year. The guidance that we give you probably we will be in the low end again.

And, yes, I cannot tell you what will happen in the coming years. If we are successful, we can maintain regularly below the regular historic tax rates. It’s something that is also manageable. It’s not - we are not passive here. And we have a very good team working particularly on that. So, yes, hopefully we can delay the catching up of the regulatory events [indiscernible].

Carlos Gomez

But at this point in time, when you look at 2017, 2018, with what you have in place right now, should we expect that convergence to settle a rate? Or USD have enough in place that we’ll keep it below that level?

Pedro José Moreno Cantalejo

Yes, with the [indiscernible] we are managing. It will - I believe that the coming two to three years will keep us below the regulatory, yes. Not increasing - not really increasing, but not so much. I think the big increase has happened each year. This 330 basis points was really hard. From now on, it will be marginal increases.

Carlos Gomez

That’s helpful. Thank you.

Operator

I’ll go next to Arturo Langa with Itau BBA.

Arturo Langa

Yes, good morning. Thank you for taking the questions. Just three really brief questions. But regarding the new initiative focusing on investment banking, can you give us a little bit of detail on what’s motivating that? I mean, the issue, it has been weak across the banks, so I was just wondering what’s driving the focus on that?

And second, the increased competition, is that coming specifically from one competitor, or is that the industry as a whole? I mean, maybe really Banamex returning to the market. And the last one is can you kind of describe what’s your exposure to the FX, both directly and indirectly? We have heard also that Pemex is kind of delaying some payment to suppliers. Just those really brief questions if you can, please.

Héctor Grisi Checa

Okay, sure. In terms of investment banking, what I see is that we have a really nice platform. The bank has a really good name, has a really great platform in order to do that. And in the past few years, we have been under delivering in terms of what the capabilities that the franchise has in that sense. So, we’re going to be very intelligent in the way we do it. And we want to be very light capital intensive in the way we do our business.

And we want to be very much focused in the market contractions. In that the bank has a really strong process in that sense, as I said. And issuing bonds, IPOs, I think there’s a lot of opportunities in the market right now that we can take advantage of. Also there is also money in the bank. That’s a really, really strong position in the second year of the companies in Mexico. So we’re going to take a look at that. I think there’s a great opportunity to do some really nice transactions in that sense. So we’re going to be concentrating on that, and using the capabilities that the bank has, that, in my opinion, we have underperformed in the past.

Second, in terms of competition, competition is - we don’t see it coming just from Banamex, it’s coming from every single way. If you take a look at the competitors that came out with numbers, [indiscernible] all of them are growing in different segment so far of the market, and none of them are growing. So everyone is basically coming to the market and really playing it strong. So it’s not just for one.

In terms of the exposure that we have in FX and the situation with Pemex, I think we can - I mean, we’re taking a look - at close look at the portfolio. Or what do we see that some of the companies that have exposure to others, and we have credits outstanding to them. What is our position? At this point, we’re still working on the analysis. Up to now, I have not seen anything that really looks at a really red alert. At this point, I think we’re in a - but we’re still looking and going through the whole portfolio. We’ll have a better idea in a couple of weeks more, looking at the whole portfolio.

But at this point, I can tell you that there is nothing that worries us quite a lot. In terms of the Pemex situation, we are taking a close look also at exposure that we have in that market, mainly to the suppliers. At this point, I can tell you that, I mean, we have - we are looking at the different situations. But I can tell you, at this point, there is nothing big, but we’re still reviewing.

Arturo Langa

Okay. Thank you very much. That was very clear.

Héctor Grisi Checa

Okay.

Operator

And we’ll go next to Tito Labarta with Deutsche Bank.

Tito Labarta

Hi, thanks. Just had a quick follow-up question; you had a big spike in other income, around Ps.700 million this quarter. Just want to get a sense, how sustainable is that? Is that - it’s more than doubled from last quarter? I mean, is that partially why you expect earnings before taxes to grow less, because that number should come down to normalize back to prior-quarter levels? Thank you.

Pedro José Moreno Cantalejo

Well, no, in this line, as you can imagine, is very volatile. This quarter we have a sale of repossessed assets from real estate and a sale of a small portfolio. So this is the line where we reflect these extraordinary transactions. But it was really not so big. So normally, it’s very unpredictable. It depends.

If we observe that we have a portfolio that is a very, very old and for the write-off many months or years ago, we try to sell it off, sell it out; concentrate on collections of the most recent delinquent portfolio. This was the reason of this one.

Tito Labarta

Okay. Thank you.

Operator

And with no further questions in the queue, I’d like to turn the conference back over to Mr. Hector Chavez for any additional or closing remarks.

Hector Chavez

Well, thank you very much. With that, we finish our conference call for the fourth quarter of 2015. And anytime you need anything, we’re available for your questions. Thank you very much.

Operator

Again, that does conclude today’s presentation. We thank you for your participation.

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